Basel II op risk sound practices paper expected next week

Part one of the two-part paper will give general guidance to banks and their supervisors – “shoulds rather than musts” – for managing op risk under pillar 2 of the Basel II bank capital adequacy accord proposed by the Basel Committee on Banking Supervision, the body that in effect regulates international banking.

The three-pillar, risk-based Basel II accord will determine from 2005 how much of their assets large banks will have to set aside as reserve capital to guard against losses from banking risks, including credit and market risks as well as, for the first time, operational risk.

Pillar 1 determines the size of the capital charges, while pillar 2 provides for close monitoring by supervisors. Under pillar 3 banks will have to give more information about their risk management practices.

Part two of the sound practices paper, entitled Sound Practices for the Management and Supervision of Operational Risk, will review “the cutting edge” of op risk management – the advanced measurement approaches to calculating op risk capital charges that are based on a bank’s internal risk models and loss data. The paper will list the sort of things that banks using the advanced approaches should have in place, regulators said.

An earlier Basel Committee working paper on operational risk issued in September listed the standards that banks must meet to use the advanced approaches.

Under Basel II’s risk-based framework, banks using the more complex advanced approaches should enjoy lower capital charges than banks using simpler methods.

The Basel regulators had intended the sound practices paper to appear in April. The delay reflects the evolution of thinking about the paper’s purpose rather than any differences of opinion among the regulators, Basel officials said.

Yesterday the Basel Committee said its third consultative paper on Basel II will be delayed from early 2002 to an unspecified date later that year, which banking analysts believe will be June at the earliest. The hold-up was due to problems in finalising credit risk proposals along with other matters, such as the treatment of securitisations and specialised loans.

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